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RMB for real: Enough buckets to make a splash?

Apr 15th 2015 |

This time, it’s for real. Beijing has introduced a series of pilots and policy initiatives since late 2012 to push forward capital account liberalisation and promote the internationalisation of the Chinese yuan (RMB). Treasurers have noted big differences between this and previous rounds of deregulation. When SAFE (the State Administration of Foreign Exchange) drafted up its pilot schemes, it listened more attentively to the needs of corporates and came up with policy initiatives that helped the smooth running of commerce.

“The pilot to set up a cross-border FX cash pool really helps cash in the policy dividend (of promoting RMB internationalisation),” says Sui Ming, China treasurer of Samsung, which was one of 13 companies from Beijing and Shanghai participating in the SAFE pilot of late 2012. “It helps in realising some of the practices that existed only on paper in the past.”

In June 2013, SAFE expanded the pilot scheme beyond Beijing and Shanghai to include more companies in more regions such as Guangdong and Jiangsu.

Sui, among many treasurers from companies participating in the SAFE pilot, worked with SAFE officials at numerous off-site meetings which often lasted several days to iron out the framework of the pilot to allow companies to pool their FX across the border. Multinationals had long petitioned Beijing for this to happen in order to address the issue of trapped cash in China. At these discussions, SAFE officials encouraged treasurers to think outside the box and not to worry too much about any existing regulations.

The result was a pilot scheme that allowed participating companies to lend out trapped cash easily, reduced the amount of paperwork for settlement of cross-border trade, and enabled companies to adopt settlement schemes such as netting or re-invoicing in China for the first time, practices which are common in more liberalised countries.

Samsung, for example, successfully launched netting for its US dollar-denominated cross-border trade to and from China in March 2013, making it the first multinational company to do so. Instead of asking its subsidiaries to settle cross-border trade among themselves, Samsung can now offset all the payments and receivables made cross-border and only needs to settle the difference. The volume of trade settlement will decrease to $10 billion a year from $70 billion a year, according to Samsung’s internal estimates, which translates to a substantial financial cost saving per year.

Another characteristic of the SAFE pilots is that participating companies tailor their initiatives differently to accommodate their needs for cross-border liquidity management. Western multinational companies typically aim to set up cross-border cash pools to unlock trapped cash in China, which is the important first step to absorb a treasury operation in China into the global cash pool. By contrast, Chinese local MNCs aim to open up a channel to bring cash easily back home. This could enable the Chinese headquarters to assume the responsibilities of managing treasury globally.

SinoChem, for example, has swept $10.22 million from overseas to China. COFCO, another big Chinese conglomerate, swept in $20 million. Both transfers were done manually with a goal of setting up automatic sweeping in the future.

Schneider Electrics, by contrast, lent out €120 million to its headquarters in France as a six-month loan. It also paid out a $298 million dividend under the new scheme, which allows companies to make the payment before supplying all the documents to the regulator for review.

Four buckets still don’t equal one pool

The pilots are among a series of deregulations rolled out by SAFE and the central bank (People’s Bank of China), which aim to promote the use of RMB globally and encourage more companies to move their regional treasury operations to China.

Treasurers acknowledge the changes as a crucial step towards full capital account liberalisation, which China’s Premier Li Keqiang has set the goal of realising by 2015. Still, there are limits to deregulation. Instead of enabling a seamless cross-border pool of cash, the regulators only allow companies to set up what companies themselves have dubbed different ‘buckets of water’ (cash) that ultimately will lead to the same pool of cash.

Following the same logic of maintaining regulatory control, SAFE and PBOC still require companies to set up different accounts for participating in the pilot. One ‘bucket’ is called the international Foreign Currency Master Account (FCMA), which has to be opened at an onshore bank in China to concentrate foreign currency across the border. The flow of cross border funds to and from this account is not restricted. Another ‘bucket’ is the Domestic Foreign currency Master Account (DFMA), which has to be opened at the same onshore bank to act as the header account of the FX cash pool in China. There are still limits on how much cash can flow between the two accounts.

To move cash from FCMA to DFMA, which acts as inbound sweeping, one company cannot exceed the borrowing quota, which is the sum of all the foreign debt quotas of its subsidiaries. Moving cash in the other direction, (to pool trapped cash outside China) is also subject to lending quotas. These are set at 30% of all the equity of subsidiaries combined.

The third ‘bucket’ is the domestic RMB master account, which is the header account of the RMB cash pool and is to be used to sweep cash in RMB across the border. PBOC has yet to allow such sweeping, but companies now can lend out loans in RMB to sister companies or to the headquarters.

The fourth and final ‘bucket’ has been named by treasurers participating in these pilot schemes as the ‘foreign debt pool’, which is actually the total borrowing quota between DFMA and FCMA. One major development of the cross-border sweeping of funds is the ability of multinational companies to pool the foreign debt quotas of their various subsidiaries, which enables them to make full use of low-cost financing options in overseas markets. Before that, different legal entities of a foreign company are subject to their own respective limits on borrowing from overseas. With the ‘foreign debt pool’, the holding company can tap into the unused foreign debt quota of certain subsidiaries to provide larger cross-border inter-company loans to entities which are in need of cash.

The ultimate goal of the pilot is to enable free flows of funds among the first three buckets and make the foreign debt quota obsolete. However, the requirements to set up these buckets can be a disincentive to treasurers. On top of that is the fact that some buckets of cash cannot move freely one to the other. For example, you cannot move cash from the domestic RMB account to domestic foreign currency accounts. Also, the regulator has still set a limit on the amount of cash that can be swept cross border. All this has put some treasurers off.

One Asia treasurer of a Western auto company, who followed the development closely but decided not to participate in the pilot, feels that setting the limit at the foreign debt quota is simply the continuation of existing regulatory philosophy – that regulators are concerned about hot money moving in and out of China. “How could you allow the market to allocate resources while still maintaining a very strict regime of control?” he asks.

His comments are echoed privately by one Asian central banker. “What the Chinese regulators still believe [is] they’re able to monitor every transaction across the border,” he says. “Until they realise that there is no way to maintain such a level of control (of foreign currency), we won’t see the full internationalisation of RMB or full capital account liberalisation.”

The devil is in the detail

Like all major pilot schemes in China, to accomplish some policy initiatives in practice still requires a lot of communication happening between regulators. Take tax, for example. One international MNC treasurer who participated in the pilot scheme has asked SAFE to clarify the tax implications of sweeping cash across border. She aims to pool overseas US dollar cash into China to finance the expansion of her China business. However, she’s not clear which model of cash pooling to follow. In China companies are not allowed to lend internally among subsidiaries directly and therefore need to set up cash pools based on an entrusted loan model, which requires payments of business tax, stamp duty and income tax on interest earned.

“If sweeping cash to the domestic foreign currency account needs to follow the entrusted loan model, we need to know the applicable taxes and their respective tax rate and whether we can apply any multilateral or bilateral tax agreement to mitigate these tax liabilities,” the treasurer says. She adds: “If we could do away with the entrusted loan structure in cross-border sweeping, we also want the tax authority to clarify that in a formal notice so that we won’t face any tax liabilities in the future.”

There is also the inherent challenge between the corporate’s need to use cash freely from cross-border pools and the existing regulatory control to classify funds into the categories of capital and current accounts.

“Cash cannot be characterised,” adds the same treasurer. “You cannot label one pool of cash under the capital account and another under the current account and restrict the usage.” However, as a treasurer who participated in the SAFE pilot complains, under the current regulatory regime, SAFE, especially local SAFE branches, often ask the banks which help set up the cross-border pool structure to label cash pooled inside it as being under the capital account and current account. “The result is that funds labelled under the trade current cannot be used as capex, which is against the aim of cross-border sweeping in the first place: enabling easy use of cash,” she says. Also, local SAFE branches often require what she calls “strict control of capital account inflow”, which also limits the use of funds labelled under the capital account to settle trade.

What if we do away with the border?

Despite such concerns, deregulation does indeed bring changes to treasury practices in China. Many treasurers whose companies participated in the pilot view the recent scheme as opening up new channels so that companies will have an alternative funding and/or investment channel. Others want to follow deregulation closely in order to be on top of treasury innovation in China.

There are obvious benefits, says Robert Yenko, Asia Treasurer of Intel, which also participated in the SAFE pilot. Among these are efficiency and better returns in managing liquidity globally and enhanced control and visibility from the master account. But there is also a catch. Yenko spent over six months in applications and communications with SAFE and after the implementation of the pilot, his team needs to provide feedback to the regulator on a monthly basis.

The most prominent challenge, though, is the scalability of the pilot programme, or how fast additional companies will engage in cross-border liquidity pools which may lead to real capital account liberalisation, Yenko says.

Many others are sure that China is firmly on that path to full liberalisation. In a EuroFinance survey conducted in July 2013 of more than 300 treasurers worldwide, 73% of those polled think the RMB will be at least world’s third most important currency within 10 years, a very optimistic view on the redback.

“For treasurers, imagining one day there is no border, [that] capital could flow in and out of China without worries of FX control, what would happen in treasury management? How should companies manage treasury differently?” Anthony Lin, China head of transaction banking at Standard Chartered Bank (which supported the survey) asks. His questions are hanging between the realities and theories of RMB deregulation. Perhaps SAFE will give the answers some time soon.